ChinaWatch Vol. 1 No. 1

A regular feature of Taiwan Sentinel, ChinaWatch examines developments in China in the areas of internal politics, economics and trade, geopolitics and Taiwan engagement and analyzes their advantages or disadvantages for Taiwan’s standing in the region and the world. This feature is based on the premise that what happens in China has direct relevance for the durability of Taiwan’s de facto independence. ChinaWatch is updated at fortnightly intervals, or as events dictate.

Internal Politics

Former Tibet Boss Brings Hardline Policies to Xinjiang

The former Communist Party boss in Tibet has brought his hardline approach to China’s restive Xinjiang Uyghur autonomous region, where local Muslims have been engaged in an increasingly bitter campaign to push back against Chinese efforts to institutionalize Han political culture.

During his five years in Tibet Chen Quanguo worked unceasingly to neutralize resistance to Chinese rule by adopting a no holds barred attitude toward the local population that centered on strict policing and intrusive social regulation. Since arriving in Xinkiang earlier this year he has replicated many of those policies, including requiring residents — both Uyghurs and Hans — to hand over their passports to police for “safekeeping” and establishing a wide-ranging network of “convenience police stations” to tighten government control. Within the capital city of Urumqi alone, plans now call for the establishment of no fewer than 949 such stations.

At least since the early 1960s Xinjiang has been a focal point for local resistance to Communist Party rule. That was when the government adopted a carefully considered policy to encourage massive Han settlement in the impoverished region. Many Uyghurs objected to the policy because they saw it as undermining their Turkic customs and their deep-seated Muslim faith. A key turning point in Uyghur-central government relations came in 2009, when Uyghur riots in Urumqi led to the deaths of some 200 people, underscoring the growing tension between the sides. Since then already strict government policing has greatly intensified amid continuing Communist Party efforts to deepen social control.

The new, harder-line policies in Xinjiang, go hand and hand with Chinese leader Xi Jinping’s stepped up efforts to dampen resistance to Communist Party rule, not only in Tibet, but also in Hong Kong, where the democratic impulses of large numbers of people have led to friction with Beijing. The most recent iteration of the confrontation has centered on communist attempts to disqualify pro-democracy activists from sitting on representative bodies in the former British colony after they were elected to do so. Moves like this play poorly in Taiwan, not least because of widespread fears that they might someday be replicated on the democratic island.

Weak PRC Identity Found Among Hong Kong Residents

A new survey carried out by the Public Opinion Program of the University of Hong Kong has shown that residents of the former British colony have weak identities as citizens of the People’s Republic of China (PRC), which has been their formal status for the past 19 years.

Respondents to the survey were asked to rate on a scale of 1-10 the strength of their identity in five categories: as Hong Kongers, as Asians, as members of the Chinese race, as Chinese, as global citizens, and as citizens of the PRC. The index for the Hong Kong option came in at 8.09, followed by 7.81 for Asians, 7.55 for members of the Chinese race, 7.55 for Chinese, 6.88 for global citizens, and only 6.25 for citizens of the P.R.C. The survey was conducted Dec. 12-15 by telephone. A total of 1,001 people were interviewed.

The results of the survey were published not long after Hong Kong Chief Executive C.Y. Leung announced that he would not stand for re-election in 2017, ostensibly out of a desire to spend more time with his family. During his tenure in office Leung had come to be reviled by many Hong Kongers, who saw him as far too willing to do Beijing’s bidding at their own expense. Press speculation has recently suggested that Leung had a serious falling out with Chinese leader Xi Jinping, not least because of Leung’s unpopularity and his apparent inability to convince Hong Kong people to identify more closely with China.

China Anti-Corruption Campaign
Claims First Senior Military Victim

China’s Ministry of National Defense has confirmed that investigation proceedings have been initiated against a senior People’s Liberation Army general for alleged corruption offenses, including bribe taking. The ministry named the man as 63-year-old Wang Jianping, who had been serving as deputy chief of the Joint Staff Department under the powerful Central Military commission. Wang becomes the first serving high level PLA officer to be targeted in Chinese leader Xi Jinping’s wide-ranging anti-corruption campaign, which has already claimed hundreds of victims, including many in the senior ranks of the government and the ruling Communist Party.

Wang has been closely linked to the disgraced security tsar Zhou Yongkang, who was sentenced to life imprisonment in June 2015 for wide-ranging corruption offenses. Wang served directly under Zhou in his capacity as the head of the 1.2 million-strong People’s Armed Police, the paramilitary force charged with civilian policing within China, including in the hyper-restive area of Xinjiang. He was given that position in 2009, before being transferred to his present position in 2014.

With confirmation of the investigation against Wang, China’s anti-corruption campaign appears to have entered a new and important phase, as it spreads its wings to the highest reaches of the PLA. The campaign’s only prominent military victim prior to Wang had been General Tian Xiusi, a former political commissar of the PLA air force, who was already retired in July of 2016, when he was placed under arrest for corrupt practices.

Economics and Trade

China FDI Surge in U.S.

A December 8 report from the U.S.-China Economic and Security Review Commission has underscored the rapid growth in Chinese foreign direct investment in the United States. The report found that Chinese investment in the U.S. has grown from US$500 million annually before 2008 to some US$18 billion just in the first half of 2016. It said that while Chinese acquisitions of U.S. assets now account for 90 percent of the investment, greenfield deals have grown seven times since 2010, from US$240 million to US$1.8 billion in 2015. According to the report, nearly 2,000 Chinese owned companies employing 100,000 American workers currently operate in 47 of the 50 U.S. states.

The report found that Chinese government policies, including the liberal provision of incentives, helped direct the U.S.-bound FDI into specific industries, technologies and locales. One example of this is in the semi-conductor sector: in 2014, before the introduction of a new Chinese policy targeting semi-conductor development, cumulative Chinese investment in that sector amounted to less than $200 million; since then though, it has more than quadrupled, rising to some $800 million.

In general terms, the report found that Chinese FDI in the U.S. was increasing in high-tech and innovation-related activities, as well as in commercial real estate, and traditional safe haven assets. It said the investments helped Chinese companies increase their competitiveness within China itself, and at the same time aided them in moving up the value chain and diversifying globally.

Surging Chinese FDI in the United States acts to put a brake on punitive American trade and political moves toward China. While Chinese investments in the U.S. so far amount to no more than a drop in the bucket within the context of the US$18 trillion American economy, China is now becoming a major player among investors in the country, even if it does still trail behind such traditional powerhouses as the U.K., Japan, the Netherlands and Canada in volume terms.

The U.S.-China Economic and Security Review Commission was authored by the Rhodium Group, a New York-based consultancy that focuses on client needs in the financial, corporate, non-profit and government sectors, particularly in China and India.

Shadow Banking Activity SpikesAmid Surging Credit

China’s poorly regulated shadow banking sector is staging a powerful comeback, raising the prospect of financial sector instability amid frantic government efforts to rein in runaway loan growth. Official data show that shadow credit in November surged to 479 billion yuan (US$69 billion) after having dropped to 55 billion yuan in October. Shadow credit consists of trust loans, entrusted loans and bank-acceptance bills. It is used by Chinese borrowers to skirt the formal banking sector, and is extremely difficult to hold in check.

For more than seven months now, China’s official policy has been to try to rein in credit growth, largely because of well-justified fears of rising corporate debt levels and asset bubbles in the bond and property markets. But the policy has run up against the leadership’s perceived need to meet its annual GDP growth target of 6.5-7 percent. The leadership fears that growth much below six percent could provoke widespread unemployment and social instability. Over the past decade credit has probably risen 15-25 percent annually, a level that many economists see as unsustainable in the long term.

In the meantime however, it is looking increasingly likely that 2016 GDP growth rates will come in on target. November data for industrial production and retail sales showed good gains, even if they do appear to have been massaged by the continuing credit boom. Several weeks ago President Xi Jinping expressed confidence that the 6.5-7 percent growth target would be met.

But economists have warned that growth prospects for 2017 are not nearly as good as those of 2016. For one thing, Beijing is already trying to rein in its looser monetary policy — shadow credit gains notwithstanding — as government budgets become increasingly strained. Fiscal spending climbed 12.2 percent year-on-year in November, but fiscal revenue increased by only 3.1 percent.

Growth prospects are also coming up against rising raw material costs for manufacturers. For example, the price of copper has gained 25 percent in less than two months. Should that kind of inflation in the raw material sector continue, manufacturers will almost certainly move to slow production to a crawl, always assuming that that the government hews to its declared policy of reining credit in.

China Bond Futures Halt

China’s bond market has crashed, as investors head for the hills over deep-seated worries that slowing Chinese growth, heightened capital outflows and rising government concern over real estate and other asset bubbles may spawn an end to the easy credit of the past several years.

Trading in key bond futures was halted for the first time ever on Dec. 15 after 10-year and 5-year Treasury bond futures plummeted two percent and 1.5 percent respectively, their biggest drops in history. It re-opened several hours later, only after the central bank injected some US$22 billion into the short term money market. Yields on the 10-year soared to 3.4 percent, a 16-month high. The sell-off began in November, but has accelerated in recent weeks.

The bond market had been sustained by a wave of easy credit and fiscal stimulus designed to keep GDP growth at acceptable levels. The credit surge encouraged investors to borrow money cheaply and direct it into supposedly sure-fire assets like bonds, real estate and commodities. But particularly after the equities market tanked last summer, fears have risen that growth in these asset classes is ultimately unsustainable.

Valued at around US$9 trillion, China’s bond market is dominated by domestic investors, though foreigners entered it to a limited extent earlier this year, hoping to cash in on its seemingly high profit potential.

A major factor in the Dec. 15 bond meltdown appears to have been the near simultaneous decision by the U.S. Federal Reserve Bank to raise interest rates. Investors believe that China may soon follow suit, largely to halt the recent decline of the renminbi against the U.S. dollar and discourage capital flight. Eager to place their assets in the relative safety of overseas markets, wealthy Chinese and others have transferred some US$1.2 trillion abroad in the past two years. That constitutes approximately one-quarter of China’s total forex reserves.

An even more important factor in the bond meltdown was probably the government’s policy aimed at tightening lending as part of its overall effort to cut down on speculative investment. But credit tightening also raises the specter of market plunges and overall economic dislocation as liquidity evaporates. So in this one respect at least, Chinese economic decision makers appear to be caught between a rock and a hard place, as they attempt to right the country’s reeling economic ship.

Geopolitics

China Hits Out at Trump after ‘One China’ Comments

China’s foreign ministry has reacted angrily to suggestions by U.S. President-Elect Donald Trump that Washington need not remain committed to its decades-old “One China” policy once he enters office.

On Dec. 11 Trump told an interviewer from Fox News that he could jettison the One China policy — according to which the U.S. acknowledges Beijing’s position that Taiwan is part of China — if China does not provide concessions to the U.S. in other areas, including trade, and possibly the North Korean nuclear weapons program as well. His comment followed his precedent setting phone call with Taiwanese President Tsai Ing-wen on Dec. 2, which represented the first high level contact between the U.S. and Taiwan since Washington shifted its diplomatic recognition from Taipei to Beijing in 1979.

Reacting to Trump’s comments, Chinese foreign ministry spokesman Geng Shuang said that ties with the U.S. would be put in danger if Washington abandoned the One China policy, adding that China was “very concerned” about Trump’s position.

“The One China policy is the political foundation for the healthy development of the Sino-U.S. relationship,” Geng said. “If this foundation is disturbed, there are no grounds to talk about further developing the healthy and stable relationship between China and the U.S., and their bilateral cooperation in major aspects.”

Aside from having a massive trade relationship with China — some US$660 billion in 2015, of which US$162 billion were exports — the U.S. has long looked to Beijing to provide help on a number of pressing international issues, including climate change and North Korea’s rapidly expanding nuclear weapons program. But unlike outgoing U.S. President Barak Obama, Trump is extremely skeptical that China has the will to confront Pyongyang on nuclear development, and at the same time, also doubts that climate change even exists, having once described it as “a Chinese hoax” to undermine American economic growth.

Geng Shuang’s harsh comments on Trump’s views represent a significant escalation in China’s response to his actions. After the telephone call with Tsai Ing-wen, Beijing limited itself to a relatively mild statement from Foreign Minister Wang Yi, characterizing the call as a “cheap Taiwanese trick.” This comment was very much in line with China’s typical practice of going after the weaker party in disputes in which it is engaged. In 2009, for example, it put the blame for the Dalai Lama’s visit to Taiwan on the then opposition Democratic Progressive Party rather than the government of President Ma Ying-jeou.

This time however, Beijing appeared to have had no choice but to take on Trump directly, particularly after he cast aspersions on the viability of its one China policy. Trump takes office on Jan. 20, and it may not be long before China tests his mettle in the South China Sea or in other possible areas of contention between the sides.

Indonesia and Japan have established a new framework for maritime cooperation in the face of increasingly assertive Chinese behavior in the South China Sea.

On Dec. 21 the two countries launched the Japan-Indonesia Maritime Forum. It aims at protecting Indonesian sovereignty in the South China Sea and elsewhere. The move comes amid rising Indonesian concern over aggressive Chinese fishing tactics off of Natuna Island on the Sea’s southern flank. The new organization is expected to involve Japan directly in helping to develop Indonesian ports and other infrastructural projects as part of the Southeast Asian nation’s efforts to develop its outlying islands and enhance its overall maritime security.

Up until now, Indonesia has adopted a relatively passive attitude toward China’s expansive claims of South China Sea sovereignty, insisting it will not contest China’s territorial claims in the area. But particularly in light of the Natuna Island friction, it appears to have changed direction, despite China’s expanding involvement in the Indonesian economy. That involvement includes China’s planned construction of an Indonesian high speed railway line, one of Jakarta’s signature development projects.

For its part, Japan has been pushing hard to deepen its influence in Southeast Asia, especially in light of rising Chinese influence in countries like Thailand, Cambodia, and most recently the Philippines, where President Rodrigo Duterte has made no secret of his intention to dampen ties to the United States in favor of closer relations with China. Japan and the U.S. moved aggressively to catalyze ASEAN opposition to China during the grouping’s September summit meeting but to little or no avail. Now however, the new maritime arrangement between Japan and Indonesia _ the country that many Japanese strategists see as the key to all of Southeast Asia — suggests an important turning point in those attempts.

China Appears to Acknowledge South China Sea Militarization

China has hinted strongly that it has deployed weapons on disputed islands in the South China Sea, potentially raising the stakes in its already testy relationship with the incoming Trump administration over freedom of navigation in the area.

Responding to images of new weapons emplacements on the Spratly Islands — according to the Washington-based Center for International and Strategic Studies these included “large anti-aircraft guns and probable close-in weapons systems” — China’s Defense Ministry said on Dec. 15 that construction on the islands was mainly for civilian purposes, even while suggesting that such construction had a distinctly military character.

“As for necessary military facilities, they are primarily for defense and self-protection, and this is proper and legitimate,” a ministry statement said. “For instance, if someone was at the door of your home, cocky and swaggering, how could it be that you wouldn’t prepare a slingshot?”

Over the past several years China has been engaged in an intense program aimed at deepening its claim to the islands. The program has focused on creating runways, harbors and hangers large enough for military aircraft there, as well as the construction of a number of artificial islets. The program has stoked tensions with countries in the region, and also with the United States, which remains strongly committed to freedom of navigation in heavily traveled South China Sea waterways.

The tensions were underscored on Dec. 15 when the Chinese navy seized an American underwater drone in international waters off the western coast of the Philippines. Reports say that the drone was being used to help track Chinese submarine movements in the area. Legal experts say that its seizure was a clear violation of international law.

On Dec. 17 the Pentagon announced that following consultations with the Chinese side, the U.S. had received assurances that the drone would be returned at an unspecified time. China admitted no wrongdoing in connection with the incident, and the open-ended timetable for the drone’s return strongly suggested that the Chinese navy might engage in reverse engineering to try to learn as much as it could about its construction and capabilities.

The drone was eventually returned on Dec. 20.

Taiwan Engagement

Slowing Growth for China Defense Budget

China’s defense budget increased by a relatively modest 6.3 percent year-on-year in 2016, growing to US$191.8 billion, according to London-based military consultancy Jane’s. That level of expenditure put China at number two on the world defense expenditure list, well behind America’s US$622.0 billion. The Chinese defense figure does not include annual spending on domestic security, which is estimated at around $140 billion.

In a related development, Jane’s predicts that China’s annual defense outlay in 2020 will amount to US$223 billion, nearly double the US$123 billion spent in 2010. That computes to an average annual rise of around 7.5 percent, which is well below the 9.5 percent in annual growth the Pentagon attributes to Chinese defense spending for the years between 2005 and 2014.

Chinese officials, including senior leader Xi Jinping, have tied the level of Chinese defense spending to GDP growth and overall financial stability. With China’s total fiscal expenditures having outpaced the growth in revenues by a factor of three to one during the first nine months of 2016, the country may now have to cut the defense spending growth rate even below the current 6.3 percent, always assuming that it takes this link between overall economic well-being and defense expenditures seriously. Significantly, future GDP growth prospects now appear wobbly, with many economists doubting that Beijing can hit its declared target of around 6.5 percent annually over the short to medium term.

Even with its slowing defense expenditures, China is still leaving Taiwan far back in its rear view mirror in this crucial cross-strait metric. Jane’s says that Taiwan spent around US$13.8 billion in 2016, up marginally on 2015’s US$13.7 billion. That put it in 16th or 17th place worldwide, more or less on a par with Israel’s defense outlays.

While Taiwan’s new Democratic Progressive Party government says it wants to increase defense spending as a proportion of GDP to at least three percent, it acknowledges that this will be a tough slog, particularly in the current economic climate. At present the figure is around two percent, which is what it was during the final years of the Ma Ying-jeou administration, when economic and other cross-strait cooperation was still very much in vogue.

China-Taiwan Diplomatic Truce Over
as Sao Tome and Principe Defects to Beijing

Seven months into office, the Taiwanese government of President Tsai Ing-wen has lost its first diplomatic ally to China.

The mid-December move by the tiny African island nation of Sao Tome and Principe to switch relations from Taipei to Beijing marks the end of an eight-year diplomatic truce, under which the Chinese side deliberately avoided poaching the relative handful of nations still maintaining formal relations with Taiwan. The truce had been in effect since the beginning of Ma Ying-jeou’s first term in office in 2008. During Ma’s tenure in office China rebuffed attempts by Paraguay and one or two other countries in Latin America to drop Taipei in favor of Beijing, apparently in deference to Ma’s willingness to acknowledge that Taiwan is part of China.

But Tsai has made no such acknowledgement, amid steadfast refusals to accept the notion of Chinese sovereignty over Taiwan. Incensed by her attitude, China has long been promising retribution, so the Sao Tome and Principe move hardly came as a surprise, and could well be followed by other diplomatic defections in the not too distant future. China had already shown its displeasure with Tsai by cutting off contacts with her government, limiting the number of Chinese tourists to Taiwan, and conducting at least two provocative military flights around the island’s perimeter.

A crucial factor in the timing of the announcement of the Sao Tome and Principle defection may well have been Chinese outrage over the telephone conversation Tsai conducted with U.S. President-elect Donald Trump on Dec. 2. It marked the first time since Washington switched relations from Taipei to Beijing in 1979 that leaders of the two sides were known to have spoken directly. China’s displeasure over the call reflected its deep unhappiness over Trump’s apparent willingness to play fast and loose with the one-China policy, under which the United States acknowledges Beijing’s claim that Taiwan is part of its territory.

With the Sao Tome and Principe defection, Taiwan now has only 21 diplomatic allies, mostly small and impoverished countries in Central America and the South Pacific. Its only remaining allies in Africa are Burkina Faso and Swaziland. In January Tsai is expected to travel to Central America to visit Taiwan’s diplomatic allies there: Honduras, Guatemala, Nicaragua and El Salvador. A major question concerns the possibility of a stopover in the United States and a meeting with a senior figure in the Trump administration.

Sao Tome and Principe and Taiwan had maintained diplomatic relations since 1997.

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